29 Jun Question ABC Company is considering the pu
Question
ABC Company is considering the purchase of a numerical-controlled machine for use in
its production. The machine would cost $675,000. An additional $487,500 would be
required for installation cost and for software. Management believes that the automated
machine would provide substantial annual reductions in cash costs, as shown below.
Labor cost $180,000 (Annual reduction in cash costs)
Material costs $72,000(Annual reduction in cash costs)
The new machine would require considerable maintenance work to keep it in proper
adjustment. The company’s engineers estimate that maintenance costs would increase by
$3,200 per month if the machine were used. In additional, the machine would require a
$67,500 overhaul at the end of the fifth year.
The new machine would be usable for eight years, after which it would be sold for an
estimated scrap value of $157,500. The new machine would replace an old machine that
can be sold now for its scrap value of $52,500. ABC Company requires a return of at
least 16% on investment of this type.
1. Compute the net annual cash cost savings promised by the new machine excluded
depreciation and the overhaul at the end of year 5
2. Using the data from part 1 and other data from the problem, using the tables of
present values provided and ignoring income tax issues, compute the new
machine’s net present value. Use the incremental-cost approach
3. Assume that management can identify several intangible benefits associated with
the new machine, included greater flexibility in production, improved quality in
output and reduced throughout time. What dollar value per year would
management have to attach to these intangible benefits in order to make the new
machine an acceptable investment?
4. Now, instead of intangible benefits, assume that management is told that the new
machine can be sold at the end of its useful life for a much higher salvage value of
$720,000. Should management approve the investment?
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